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November 24, 1997


Petition for Review of an Order of the Illinois Commerce. Commission No. 96--345.

Justice Breslin delivered the opinion of the court. Michela and Slater, JJ., concur.

The opinion of the court was delivered by: Breslin

Justice BRESLIN delivered the opinion of the court:

Petitioners Archer-Daniels-Midland Company, Marathon Oil Company and Quantum Chemicals Company, collectively referred to as the Illinois Industrial Energy Consumers (IIEC), appeal an order of the Illinois Commerce Commission (Commission) which approved respondent Central Illinois Public Service Company's (CIPS) modification of a fuel supply contract pursuant to Section 8--508 of the Illinois Public Utilities Act (Act), 220 ILCS 5/1--101

et seq. (West 1996). On appeal, the IIEC contests the Commission's findings, as well as its authorization for CIPS to recover a $70 million fuel contract buy-out charge and associated carrying charges through CIPS's Fuel Adjustment Clause (FAC). For the reasons which follow, we reverse.


This case follows the Commission's approval of CIPS's plan to address an inefficient coal supply contract and corrosion at its CPS Newton 1 generating unit. In 1975, CIPS and AMAX Coal Company entered into a long-term high-sulfur coal supply contract. Through the years, the contract, which the parties refer to as the Delta Mine Contract, had been amended from time to time, with the most recent amendment occurring in 1991.

The Delta Mine Contract provided that CIPS would purchase a minimum of 1.3 million tons of coal annually from AMAX through December 31, 2002, for use at its Newton I unit. The agreement established an initial price of coal which was adjusted periodically pursuant to specific formulas in the contract. In 1993, when the contract price for high-sulfur coal exceeded the prevailing market prices for high and low-sulfur coal, CIPS initiated negotiations with AMAX to restructure their agreement.

At the time, the contract allowed AMAX to deliver high-sulfur coal from alternate sources in Illinois as long as it was of substantially the same or better quality. CIPS could not designate the alternate source, and any savings incurred by the lower cost of coal would inure solely to AMAX since the contract price did not adjust to reflect the actual cost to AMAX for purchasing and delivering alternate source coal. Accordingly, due to the lowering trends in the coal market, CIPS wanted to ameliorate its position.

In addition to changes in market prices, CIPS needed to consider the deteriorating condition of its flue gas desulfurization facility, referred to as the "scrubber," at the Newton I Unit. The scrubber reduced sulfur dioxide and allowed CIPS to burn high-sulfur coal in compliance with environmental laws and regulations. In 1993 it became apparent that corrosion caused by its operation was seriously impacting the Newton I Unit's operation and facility. An evaluation of the scrubber determined that it required a complete renovation in order to operate safely and efficiently. The estimated cost of the renovation was $70 million.

Due to the market trends and the deteriorating scrubber, CIPS had to decide whether and how to restructure the Delta Mine Contract and whether to renovate or retire the scrubber. Any restructuring had to be consistent with a decision regarding the scrubber. If CIPS decided to retire the scrubber at any time during the contract, the restructured contract would have to arrange for delivery of low sulfur coal, which does not require a scrubber. An analysis of cost savings during the contract's remaining term was therefore necessary.

CIPS identified three possible scenarios which it analyzed to determine the maximum possible fuel cost savings. It could: (1) renovate the scrubber and maintain the Delta Mine Contract (Base Case); (2) renovate the scrubber, restructure the Delta Mine Contract and purchase high sulfur coal at market prices (HighSulfur Option); (3) retire the scrubber and restructure the Delta Mine Contract for delivery of low-sulfur coal at market price (Low- Sulfur Option).

The negotiations concluded with three restructuring options for CIPS. It could: (1) use substitute coal at contract price; (2) pay AMAX the present value of $70 million during the remaining term of the restructured agreement (AMAX's expected profit from the contract) and market price for substitute coal (high or low-sulfur) in addition to 9% interest for AMAX's financing of the $70 million; or (3) pay AMAX $70 million, finance the payment itself at approximately 7.25%, and pay market price for substitute coal. CIPS performed an analysis of the present value of the revenue requirements (PVRR) which took into account the investments and expenses associated with each option. CIPS's study concluded that the third restructuring option combined with the low-sulfur option (which retires the scrubber) provided higher fuel cost savings and non-fuel cost savings than the other choices. It was determined that the net fuel savings would total approximately $14 million over the remaining life of the contract and that such savings would be passed on to customers.

An amendment incorporating these terms was included in the agreement. Under the new terms, CIPS could locate and negotiate with third-party suppliers for the purchase of substitute coal at market prices and AMAX would then contract with the supplier and resell the coal to CIPS with no mark-up, thus giving CIPS the benefit of the differential between the contract and market prices. The restructured agreement was made contingent on CIPS acquiring approval from the Commission to recover the restructuring fee and related carrying costs (finance costs ) as a cost of fuel through CIPS's FAC. The FAC is a statutorily authorized automatic adjustment clause that permits a utility to recover fuel expenses from customers, without consideration of its operating costs and overall revenue, to counterbalance fluctuations in the costs of fuel used to generate electric power. It also allows fuel cost savings to be passed on to consumers without the need for rate adjustment proceedings. CIPS pledged to cap its FAC recovery so that if the restructured agreement's costs exceeded the costs of the contract as it previously existed, CIPS would be responsible for the difference. This would prevent customers from paying higher FAC charges under the restructured agreement than under the prior agreement.

CIPS initiated proceedings with the Commission, seeking its approval as required by 220 ILCS 5/8--508 (West 1996). Following an extensive hearing to review CIPS's proposal, the Commission agreed with CIPS and found that the low-sulfur pricing option produced the lowest PVRR over a 20 year period, and that CIPS would realize substantial fuel cost savings for ratepayers over the remaining term of the contract. The Commission concluded that based on the ...

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